1. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 1 ECCP Meeting, EU ETS Review, 21 th May 2007 Improving Allocation Performance-based allocation is feasible … Vianney Schyns, IFIEC Europe Vianney.Schyns@usgbv.com

2. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 2 Introduction Allocation methodologies The question of auctioning Benchmarking as solution

3. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 3 Allocation methodologies  Question effective ETS: Scarcity of allowances sufficient ?  Lesson learned: allocation method is equally vital (Grubb, Delbeke)  Historical grandfathering poses fundamental challenges  Uncertain incentive for improvement, “updating” problem  Short allocation new plants  highly distorting transfer rules, barrier to entry – enhancing market concentration;  Unsolvable dilemmas new entrants (NE) & closures (C) (see e.g. also Grubb and Neuhoff, 2006) Theory says: freeze allocation [all allowances after C & zero for NE] Zero for NE actually hinders low carbon investments / competitiveness Retaining allowances after C – how long? – is worse than transfer rules Withdrawal allowances after C: perverse incentive keeping inefficient plants operational  Other fundamental challenges not addressed here “Leakage”, distortions of free market, economic rents (see A. Loske)  Therefore focus on benchmarking or auctioning

4. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 4 The question of auctioning  Serious concerns  Competitiveness is undermined – Lisbon strategy  Same “leakage” as present rules  Recycling of revenues poses challenges for effectiveness  Revenues with Member States – outside EU jurisdiction – create temptations: recycling but also investments in “nice things” etc., which also create Internal Market distortions  A present trend: benchmarks for industry & auctioning for electricity to counter windfall profits issue  Electricity prices remain highly impacted – competitiveness  45% EU electricity CO 2 -free (nuclear, hydro, other) – will increase  Recycling to users by far insufficient – take France - distortions  Plus general problems mentioned above  Partial auctioning - also no solution

5. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 5 Benchmarking addresses fundamental problems  Key principles & general technical criteria addressed here  Allowances must be allocated in relation to actual production to solve major problems (see presentation A. Loske)  Concept of practical approach: apply Pareto analysis  Benchmarks of “the vital few” (20% of products) cover 80+% of emissions, which holds for each sector (electricity 100%)  Too many benchmarks of “the trivial many” not feasible, minor impact – special solutions, guiding principle: “be generous” Benchmarking as solution

6. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 6 True benchmarks give same incentive as auctioning for an ETS Same incentive for low carbon technologies Suitable benchmark formula Experience shows it works

7. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 7 Auctioning: Auctioning: Clear incentive for low carbon technologies, but emissions leakage & detrimental for competitiveness

8. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 8 Performance-based allocation: Performance-based allocation: Same incentive as auctioning, (hardly or) no leakage, good for competitiveness

9. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 9 Key principles of benchmarking What a CEO wants to know Why is it always stimulating?

10. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 10 Key principles of benchmarking (1)  What a CEO wants to know?  He wants to know – e.g. with cost-price:  Where his plants stand?; then  Why? + What can be done about it?  He refuses notions like “We are the best in the peer group of our [obsolete] technology, or in our [small] scale, or in our plant vintage” (many corrections make everyone equal)  Key principle: benchmarks relate  The product … with  the objective function – CO 2 in the EU ETS  Deviations shall be possible, but temporary and aimed to avoid leakage outside EU (… objective function) safeguard competitiveness (… objective function)  Example: energy efficiency as objective function can avoid leakage by switch to gas and shipping of carbon-rich fuels outside EU

11. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 11 Key principles of benchmarking (2)  Same benchmarks for incumbents and new plants  Avoid Distorting transfer rules Barriers to entry Enhanced market concentration  Ensure Equal incentive for plant improvement & plant replacement  No “maximisation” or “minimisation” rules (NL 110% and 85% now)

12. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 12 Benchmarking: clear incentive to reduce emissions  Incentive to reduce emissions is independent of the exact value of benchmark in a certain year Incentive = avoided purchases + possible sales of allowances Example: Investment to reduce emissions from 900 to 600 kg CO 2 per unit of product (in old plant or new plant) Year 1, BM = 750: incentive = 150 + 150 = 300 Year n, BM = 700: incentive = 200 + 100 = 300  Predictability of investment climate

13. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 13 Benchmarking in the product chain Benchmarking provides incentives in the whole product chain … Electricity and heat generation Industrial manufacturing plant with use of electricity Fuel Electricity Product Heat, from CHP or from boilers Fuel … the efficiency of the production of electricity & heat … the efficiency of the use of (fuel), electricity & heat Feed

14. IFIEC EUROPE – International Federation of Industrial Energy Consumers on behalf of Alliance of Energy Intensive Industries / CEFIC / IFIEC 14 Transition with performance-based allocation for a faster global trading scheme